Could this ETF be a Tax Reform Winner?

MarketsETF Trends

This article was originally published on ETFTrends.com.

Financial services stocks and exchange traded funds have been widely highlighted as winners under the recently passed tax reform legislation, but within that group, some market observers believe the insurance industry is poised to benefit.

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That could be good news for ETFs such as the iShares US Insurance ETF (NYSEArca: IAK). The $177.1 million IAK tracks the Dow Jones U.S. Select Insurance Index and holds 63 stocks.

With the markets look toward higher rates, the insurance industry can capitalize on wider margins. The industry has previously been suffering from spread compression on products like universal life and fixed annuities due to the stubbornly low rate environment. With greater investment income, insurers see conditions improve as rates rise.

IAK allocates over 45% of its weight to property and casualty insurers and another 31.9% to health and life insurance providers. Property and casualty insurance providers are seen as winners thanks to the Trump Administration's tax reform effort.

“They look to be low-tax payers already, suggesting little room for upside,” said BlackRock in a recent note. “But the tax changes will allow these companies to lower their tax liability on underwriting revenue while maintaining their low rates on investment income thanks to tax-free municipal bond income. Most will likely be able to lower their effective tax rates further as a result.”

Meanwhile, the rising interest rate environment is also good for net interest margins for banks and more so for insurance companies. Given the latest strength in the U.S. employment data, many anticipate the Federal Reserve to hike rates at least three times this year. Yields on benchmark 10-year Treasuries have pushed higher, which is also keeping the yield curve upwardly sloping.

Insurance ETFs, sensitive to Treasury yield gyrations in their own regard, are often responsive to rising bond yields. Among industry ETFs that respond positively to rising Treasury yields, perhaps only regional bank funds have been more desperate for rising rates than insurance ETFs.

“Expect multinationals to scrutinize the international rules to manage their effective tax rates; greater clarity on the taxation of foreign assets should help inform spending plans,” according to BlackRock. “Beyond that, the details matter and vary by sector and even company, giving stock pickers room to capitalize.”

For more information on the financial sector, visit our financial category.

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